Will Abenomics 2.0 Be Enough to ‘Bring Japan Back?’

If there is one thing that Japanese Prime Minister Shinzo Abe and his policy-making team excel at it is setting ambitious goals. Abe took office in late 2012 vowing to “bring Japan back” with a raft of reforms, strong government spending and a barrage of monetary stimulus. Those “three arrows,” as he called them, were meant to banish a long spell of deflation and put the country on track for a sustained recovery.

Three years into his administration, with the economy still making only halting progress, Abe has launched a new policy platform meant to address broader problems challenging the nation’s growth — the aging and declining of Japan’s population, which is shrinking the workforce and discouraging companies from sinking new investments into what they see as a diminishing market.

With Japan having slipped back into recession in the July-September quarter (GDP dipped 0.8% following a revised 0.7% drop in the April-June quarter), Abe keeps looking up. He has pledged to achieve a GDP of 600 trillion yen ($5 trillion) for Japan by 2020, up from 491 trillion yen in fiscal year 2014; to raise the birth rate to 1.8 births per woman from the current 1.4; and to ensure that the population, now at 127 million, does not sink below 100 million.

At the same time, Abe said his government would strive to ensure that no workers would need to leave their jobs to care for their aging parents, by improving elder care and keeping the elderly healthier through preventive medicine. So far, there are few details about how this is to be accomplished at a time when the government is trying to trim spending on health care and social security, while also promising to provide more comprehensive childcare for working mothers.

While Abe’s latest policy moves focus on some of the most fundamental challenges Japan is facing, many economists and analysts question his commitment to the kind of overhaul Japanese corporate culture and social institutions need to rejuvenate the economy. It’s a “mission impossible,” a diversionary tactic meant to win public support ahead of elections next summer for the upper house of the Diet, Japan’s parliament, says Masamichi Adachi, a senior economist at JP Morgan Securities in Tokyo. “He is doing Abenomics 2.0 because Abenomics 1.0 was not going well at all. He should have started with Abenomics 2.0 first because the most crucial issue is the population issue,” Adachi says.

Cost of Children

Underlying Japan’s slow growth and the shrinking population, thanks to the low birth rate, is a conviction among Japanese families that having children is impossibly expensive and burdensome, given the long commutes, antagonistic treatment of many working mothers by their employers and scarcity of flexible, affordable child care arrangements. The genuine obstacles to Japan’s mid-term and long-term growth are both the shrinking population and Japan’s rigid employment system, which is ill suited to improving productivity in a 21st century economy, Adachi noted in a recent report.

“[Abe] is doing Abenomics 2.0 because Abenomics 1.0 was not going well at all…. [The] most crucial issue is the population issue.”–Masamichi Adachi

Abe’s goal for a 600 trillion yen economy by early 2020 would require nominal economic growth averaging more than 3%, and real growth of over 2%, over the next five years — way above recent trends, apart from the 4.7% rebound from the Great Recession in 2010. “We expect 0.7% real economic growth in 2015 and 1.1% growth in 2016. I do not think they can achieve a 600 trillion yen goal in the next five years,” Adachi says. Japan’s cabinet approved on December 22 a new economic forecast of 1.7% growth in real terms and 3.1% nominal growth for the fiscal year that starts April 1, 2016. It expects 1.2% real growth and 2.7% nominal growth in the current fiscal year.

The Japanese enjoy a relatively high quality of life, near universal health care, low crime and a vibrant traditional culture. But the economic model that worked in the years of rapid growth as Japan rebuilt after World War II and integrated its manufacturing into world supply chains is failing to keep up with the sea changes sweeping the global economy.

Slower growth and a smaller workforce would leave Japan — whose gross national debt relative to GDP is already by far the highest in the Organisation of Economic Co-operation and Development — unable to produce the levels of tax revenue needed to support its aging population. Some of Japan’s biggest, nimblest companies, like Toyota Motor Corp., have managed much better than others. But overall, productivity lags most other major economies, and the reliance on low-paid contract workers to help contain labor costs is undermining the foundations for growth of an economy whose backbone is consumer demand. Vested interests in key sectors such as energy, health care and many other service industries are slowing innovation, prompting many of Japan’s brightest entrepreneurs to venture overseas rather than fight the system.

Arrows Left Unused

In early 2013, Abe vowed to “drill deep into the bedrock” with reforms of Japan’s bureaucracy and regulatory regimes. He announced hundreds of policy initiatives as part of the “third arrow” of his first Abenomics platform. When asked recently about the status of those reforms, economic minister Akira Amari acknowledged that such sweeping changes would take time, suggesting that they would probably not be the key factor behind the push toward a 600 trillion yen economy. With an election looming, the ruling Liberal Democratic Party is unlikely to go out of its way to alienate bastions of support whose vested interests would be undercut by such a shakeup.

In the meantime, the Abe Cabinet is shifting back to the tried-and-true tactics of pump priming. A 3.32 trillion yen supplementary budget due to be approved by the Diet includes 51.1 billion yen to build more childcare facilities, 136.6 billion yen to provide more senior housing and nursing care, and cash stipends of 30,000 yen to 11 million low-income pensioners. Delivering on promises to alleviate costs for businesses, Abe announced that the corporate tax will fall to 29.97% in the next fiscal year from a current 32.11%. A record 96.72 trillion yen budget for fiscal year 2016 was approved by the Cabinet on Christmas Eve.

“They managed to weaken the yen and that boosted things for a little bit and gave a bit of inflation, but I do not think that is something that is going to continue.” –Franklin Allen

Hiroshi Kito, a population history expert and president of the University of Shizuoka, says Abe’s “feel good” policies have at least provided some encouragement, but have fallen short of their goals. “The mood in Japan has brightened up a bit because of Abenomics, though I am not sure about the reality of its effect.” What Japan needs is a vision of its future 30 years from now. “He has not shown us a long-term vision, so that the Japanese can feel they have a bright future, a stable society and jobs, so that they would [be more inclined] to have children,” Kito says.

Some economists question Abe’s motivation in launching his latest initiatives while the first policy platform remains unfinished. “Now he has presented three new arrows without examining what has happened to the first three arrows,” says Hiroshi Shiraishi, a senior economist at BNP Paribas Securities (Japan) Ltd. Abe’s primary interest is in foreign diplomacy and security issues, not economics, Shiraishi contends. “He is not interested in painful social security reforms or structural reforms or deregulation.”

The flood of monetary stimulus, with some 80 trillion yen a year in asset purchases by the Bank of Japan, has yet to entirely vanquish deflation, let engender a virtuous cycle of inflation leading to wage growth, higher demand and more investment and thus faster growth. “They managed to weaken the yen, and that boosted things for a little bit and gave a bit of inflation, but I do not think that is something that is going to continue. They are going to be back at zero inflation or negative in the long run,” says Wharton finance professor Franklin Allen. “The measures so far announced are reasonable things to do, but they will not have a huge impact.”

Double Counting?

In fact, the 600 trillion yen target Abe announced at the end of September actually was embedded in earlier forecasts and estimates by the Cabinet Office and other government agencies and advisory bodies. The aim of keeping the population above 100 million also is not new, though it’s the first time that setting a target to raise the birth rate to 1.8 children per woman has become official policy. A December 2014 estimate by the Cabinet Office’s Headquarters for Revitalizing Towns, Population and Work forecast that Japan’s population will fall to 86.74 million by 2060 and to 42.86 million — a third of its current population — by 2110 at the current birth rate of 1.4. Those figures are based on data from the National Institute of Population and Social Security Research.

The Cabinet Office’s own forecast is that a rise in the birth rate to 1.8 by 2030 and 2.07 by 2040 would keep the population at 101.94 million in 2060. “Japan has to reach a 2.07 birth rate. Even if we reach the 1.8 child goal, Japan’s populations will continue to decline,” said Hisakazu Kato, a population economics specialist and professor at the School of Political Science and Economy at Meiji University in Tokyo.

Richard Jackson, president and founder of the Global Aging Institute and senior associate at the Center for Strategic and International Studies (CSIS), says the goal is not impossible, but it is daunting. “What Abe is targeting … is a truly dramatic shift. Only two other countries, Sweden and Denmark, were able to drastically raise falling birth rates (by 0.4 or 0.5 percentage points), and they had robust state policies and labor market regulations which helped women balance jobs and family, which is different from Japan,” Jackson says.

“These are exceptions, and the vast majority of developed countries are either seeing flat or falling rates or fluctuate in a very narrow range of plus or minus 0.1” he adds. Only four other developed countries — France, the U.S., Norway and the Netherlands — have been able to raise their birth rates by 0.2 or 0.3 percentage points since the 1970s and 1980s. Sweden and France established public financed, free day care, spending about 3% of their respective GDPs on such policies. They also have prenatal incentives, family allowances for children, paid maternity leave and job guarantees. “If you leave your job [to have children], you get your job back in a year or two,” Jackson notes.

“Japan’s birth rate has been low.… You have to ask yourself what is the difference between Japan and the countries with higher birth rates? The biggest difference is work and family balance.”–Richard Jackson

Japan might not have to go that far, he notes. In the U.S. and Britain, many mothers leave the work force temporarily but return later, sometimes with an entirely different career. Japanese women likewise tend to stop working when their babies are born but return to work later, usually to low-paid part-time jobs: About 56% of all Japanese women work part time. Since about 37% of all workers in Japan are employed as contract workers, with relatively poor pay and minimal benefits, many cannot afford to get married and have children. “Even if a young couple wants to get married, they cannot afford to get married if they are employed on part-time or temporary terms. The current employment situation has to change,” Kito says.

Japan could seek to follow the northern European example in providing better child care and pro-family policies, but with the national coffers already strained by social security and health care costs, a drastic increase in spending is unlikely. “The government does not have the money to spend to help increase the birth rate,” says Meiji University’s Kato. He notes that even if the birth rate does rise, it would take 20 years or more for those newer generations to join the workforce.

Ensuring that no workers drop out of their jobs to care for their elderly relations is another Sisyphean task. Nearly 40% of all Japanese were over 65 years old in 2014, according to the Cabinet office, and that number will continue to grow for decades as the baby boomers retire. Already, the elder care sector faces a severe shortage of workers. Most of these jobs are poorly paid and demanding both physically and emotionally, so few younger workers stay long. To raise salaries paid to nursing care workers, the government must increase nursing care insurance premiums, Kato says.

Maintaining Japan’s current pension and health care benefits for the elderly would require an extra 7% of the country’s GDP by 2030, according to Jackson. The only ways to keep the system viable are to either to reduce social security benefits, including pension, medical insurance and elder care payments, or to raise the consumption tax, which now stands at 8% but may have to rise to 20% in the near future, many economists say.

One of the most obvious solutions is to increase the tax base, by employing more women and older workers — which Abe already is trying to do — or by allowing immigration, which so far is a political non-starter in the island nation.

Japan’s foreign resident population now stands at a record 2.17 million, less than 2% of the total. A large share of those foreigners are Chinese and Koreans who have assimilated and have lived in Japan for decades. To offset the loss in population and the workforce that is looming, Japan would need at least 10 million migrants, or 200,000 to 300,000 people a year over the next 50 years. Given the deep reluctance of many Japanese to accept large numbers of outsiders settling among them, such a goal is “impossible,” Kato says.

Experts say there is no one solution for Japan’s predicament, but in the end the country must launch painful reforms. “Japan needs a change of family culture. You have to work late hours and go out for dinner and drinking with your boss or colleagues in the evening. The kind of demands the workplace puts on young professionals makes it very hard,” Jackson says. “Japan’s birth rate has been low for 25 years, and it shows no signs of rising. You have to ask yourself what is the difference between Japan and the countries with higher birth rates? The biggest difference is work and family balance.”